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Bond Outlook November 8th

Yield curve inversion usually signals a coming recession, but, overall, the global economy looks good. Can there be another explanation for inversion linked to high global liquidity?

Bond Outlook [by bridport & cie, November 8th 2006]

In Europe, both within and outside the euro zone, interest rates are clearly on the increase, while 10-year yields are still declining. Flattening of the EUR yield curve led to our recommendation of barbelling. Now it seems flattening will turn into inversion, in the light of the continued hawkishness of the ECB and member banks. The EUR 2/10 year spread is close to zero. The ECB has warned of at least one more hike, if not two; we cannot imagine 10-year yields exploding, so inversion now seems inevitable.


Much like the EU Finance ministers, who are again at loggerheads with the ECB, we fear that the next refi rate hikes might be a step too far, constraining the European economic growth before it consolidates. The ECB, in contrast, sees such healthy growth that higher rates can not only be carried, but are even needed to avoid internally generated inflation.


If the economy is doing so well, why are long yields so low and getting lower? Does not an inverted yield curve, such as that in the USA, herald a major slowdown with central banks rescuing their economies with rates cuts? If so, bond markets have a totally opposite view to equity markets.

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